Project launching OTC derivative and repo clearing in KDPW_CCP using novation

1. Project launching OTC derivative and repo clearing in KDPW_CCP usingnovation

2. Project Environment Adverseimpact of the financialcrisis • Adverseimpact of the crisis on the stability of the financialsector • Reducedliquidity on the OTC market • Increasedvolaility of trade values • Risingawareness of creditrisk in the ‘worldafter Lehman’ New regulations • UE: EMIR – Regulation on OTC derivatives, central counterparties and trade repositories –pendingapproval of the EuropeanParliament • USA: Dodd-Frank Act - implemented 21/07/2010 • Basel III, CRD IV – in market consultation

3. Identifying the Legal Environment • EMIR - Proposal for a REGULATION OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL on OTC derivativetransactions, central counterparties and trade repositories. • Central clearing of trades mandatory clearing via a CCP (central counterparty) of all standard derivativestradedoutside the regulated market • Reporting to trade repositories mandatoryreporting of alltrades, bothclearedcentrally and bilaterally, to trade repositories • Rules for CCPs and trade repositories - authorisation and supervision of CCPs - capitalrequirements - organisationalrequirements - precautionaryrequirements (riskguarantee system) - interoperability

4. Identifying the Legal Environment • BaselCommittee on Banking Supervision • ConsultativeDocumentCapitalisation Of Bank Exposures To Central Counterparties • Exposures to CCPs in respect of MtM and marginssubject to low (2% riskweight) capitalrequirementsowing to multilateralnetting of liabilities and lossprotectionmechanismsoffered by CCPs • Bank exposure to the default fund determined on the basis of the currentfinancialresources of the CCP in relation to hypotheticalcapitalrequirements. CCP hypotheticalcapitaldeterminedunder CEM (CurrentExposure Method).

5. List of Active and Planned CCP Services for OTC Derivatives Bank for International Settlement, CGFS Papers No 46

6. WhyKDPW_CCP? • Experience in clearing: new clearing guarantee model of the clearing house KDPW_CCP spun off from KDPW in July 2011 • Technical and technological infrastructure and existing communication infrastructure with participants • KDPW_CCP’s neutral position as a counterparty to market participants • Clearing Model accepted by the Banking Expert Team • Relations with PFSA, NBP, market participants • KDPW_CCP ability to use collateral in securities, which greatly reduces the cost of collateral • Own capital of KDPW_CCP

7. Consultations with the Banking Expert Team The Banking Expert Team has approved: • Clearing model • Scope of cleared instruments • Instrument valuation model • Staged implementation of the project • Use of confirmation platforms • Risk management All banks have been invited to participate in KDPW_CCP consultations; 64 representatives of 17 banks took part in the consultations.

8. Proposed OTC Clearing Model • External trading platform • MarkitWireSWIFT Accord • Trade validation • Trade affirmation • Trade matching Client Trading Member A Trading Member B Client • KDPW_CCP • Trade clearing • Trade repository • Clearing risk and position management • Clearing guarantee system • Processing settlement in third-party systems Termination Platform (TriOptima) Clearing Member A Clearing Member B PFSA • Thomson Reuters • market data transfer KDPW Member A KDPW Member B additionally in payer bank function • KDPW (CSD) • Cash settlement • Collateral in securities Payer Bank A NBPSettlement in PLN

9. KDPW_CCP Clearing Model: KeyFunctionalities Third-party trading platform MarkitWireSWIFT Accord Prowadzenie rozliczeń KDPW_CCP Risk management Acceptingtrades for clearing • Defining and calculatingriskparameters • HVar • Price monitoring • Back testing • Stresstessting • Exposurelimits Clearing • Formal and substantivecheck of instructions • Interpositioning KDPW_CCP as legalcounterparty • Calculatinginterestpayments and MtM • Contributions to the clearing guarantee system(margins and fund) • Sendinginstructions for settlement Collateraladministration • Securities register • Collateralvaluation • Earlytermination (Auction) (Tri Optima – automatic termination) • Reporting • Backloading Trade repository

10. Collateral Processing Model Member • CASH • Collateralvaluation • Determining the haircut Credits and debits in respect of contributions to the clearing guarantee fund • Acceptingcollateral in securities: • Treasurybonds • W20 indexshares NBPKDPW_CCP settlement in PLN

11. Instruments: List Approved with Banks Phase 1 – 01 January 2013 • ForwardRateAgreements • InterestRateSwaps • OvernightIndexSwaps • BasisSwaps • Repos Phase 2 – 01 January 2014 • Cross CurrencyInterestRateSwaps • Options • Other

12. ProposedIntroduction of Clearing Novation to Regulations • Clearing novationmeansthat the clearing housetakesover the rights and obligations of a counterparty to a trade. Once a trade hasbeenaccepted for clearing, the rights and obligationsarising from the trade expire in the relations between the trade counterparties and arereplaced by newlegal relations. • Clearing novationwill be used on the organised market and outside the organised market.

13. Novation • If a counterparty to a trade is a clearing member and hascommitteditself to the clearing house to performobligationsarising from the clearing of itstrades, itisentitled to receiveorliable to provide a benefit resulting from the clearing of the trade vis-a-vis KDPW_CCP. Member A Trade #1 Member B BUY SELL KDPW_CCP Trade #2 Trade #2 SELL BUY

14. Consequences of Clearing Novation to KDPW_CCP • Rights and obligationsarising from the trade expirewhilenewlegal relations arise, to which the clearing houseis a party. • The clearing houseisentitled to claim the benefitsarising from the trade with regard to the trade counterparty (ifitis a member) or a memberwhichis a party to clearing. • Once a trade hasbeenaccepted for clearing, a memberwhichis a party to clearing and the clearing housemayonlyraiseclaimsarising from the legal relations whichhavereplaced the original trade. • A memberwhichis a party to clearing cannotraiseclaimsagainst the clearing housearising from the legalrelationbetween the member and the entitywhichconcluded the trade. • Collateralestablished by the entityconcluding the trade subject to clearing by the CCP isexcluded from the liquidationassets of the member.

15. LegislativeAmendments • As a result of consultationsinitiated by KDPW with market institutions (PFSA, NBP, WSE, Chamber of Brokers, Polish Banks Association, BondSpot, Custodian Banks Council), a draft hasbeensubmitted to the Finance Ministry, requestinganamendment of the Act on Trading in Financial Instruments. Keyamendmentsinclude: • Act on Trading in Financial Instruments: Art. 45b - amendment of the definition of trade clearing: addition of the clearing house as entitled to receiveorliable to delivercash and non-cashbenefitsarising from concludedtrades; Art. 45e - amendmentexcludingcollateralestablished by the entityconcluding the trade outside of organised trading subjectto clearing by the clearing house from the liquidationassets of the member Art. 45g-45i -amendmentintroducing clearing novation. Art. 50, Art. 68b - amendmentaddingnewfunctionalities in the clearing house and KDPW regulations Art.68 - amendmentconcerningguaranteefunds, including establishment of guaranteefunds for tradesconcludedoutside the organised market • Harmonisingamendmentsof the Act on Public Offering (Art. 67,90) and the Act on Civil Law TransactionTax (Art. 9).

16. KDPW_CCP Clearing Guarantee System Participantrequirements Price monitoring Margins Back Testing MTM Monitoring exposures / concentration StressTesting Default fund + additionalmargins CCP capital

17. State-of-the-art Risk Management System • Valuation – instrument valuation model customised to market specificity • Calculatingriskbased on HVaR (historicalVaR) • 5-day riskcalculationhorizon • Confidencelevel – 99.9% • 500 days – look back period • Default fund – coversstress-test risk • Additionalmargins– coverindividualparticipantexposurebetweendefault fund updates • Stress-tests – test the adequacy of resourcespooled in the clearing guarantee system • Back-tests – test the adequacy of the riskestimation model and itsparameters

18. Guarantee System Resources • Individualmargins • Default fund • Additionalmargins • KDPW_CCP capital

19. Staged Project Implementation DONE • Establish co-operation with Banking Expert Team • Jointly develop OTC trade clearing model • Approve standards of OTC instruments covered by phase 1 • Develop risk management methodology and valuation rules • Develop functional and technical specification of the new IT solution • Select IT solution vendor • Initiate Design Study with selected vendor PLANNED • Implementation work Jan-Jun 2012 • Present technical documentation and draft regulations to participants Mar 2012 • Expected introduction of novation to Polish regulations Apr-Jun 2012 • Amendment of KDPW_CCP regulations Jan-Jun 2012 • Signing agreements with participants Dec 2012 • Testing the system with participants Aug-Nov 2012 • Increase of KDPW_CCP capital Q2-3 2012 • Production rollout Jan 2013 19